Essentially, taxation is the collection of money that the government collects to be able to operate. There are different things that are taxed by the government. One of these taxes comes in the form of sales taxes which are added to the price of an item that you buy at a store, or property taxes which you pay if you are a property owner, or income taxes, which is the type of taxes that we are going to focus on. Income taxes, as the name suggests, are taxes on the money that you make throughout the year. When you file your taxes, they are verifying that you discounted the correct amount proportional to that of your income according to your tax bracket. Before we discuss tax brackets, however, we need to first cover what income taxes are and what income is taxable.
What are income taxes
If you are not self-employed and work a traditional job where you get pay stubs, you will notice on your pay stub that some money is taken from your pay check every month. That is income taxes at work. All of the income that you earn through a job is taxable. If you are self-employed or if you are a freelance contractor, you need to make sure that you are discounting the appropriate amounts from your paycheck throughout the year or you are going to be charged a lot by the IRS at the end of the year when you file your taxes. Current US law states that if you make less $5,000 in any given year you not need to file your taxes. You can if you want to, but more often than not the tax preparation fee will cost you more than you will get in tax returns. If you make more than that you have to file your taxes. However, if you have ventured beyond just your day job and begun to earn money in nontraditional ways like trading, that income can be taxed as well. Any money you made from selling a stock, to money you made mining bitcoin, etc. all of that income should be recorded to be taxed accordingly. Visit the IRS.gov to make sure that you are properly reporting the money you make from your investments. The website includes information on what you have to report as well as the minimum thresholds for reporting.
Understanding tax brackets and marginal tax rates
The American taxation system is called a progressive tax system, because you pay taxes according to how much you make, which is your marginal tax rate, but you only pay that rate on your last dollars earned. To simplify that, the taxes you pay on your income are based on your tax bracket, which is determined by you annual income. However, the rate is not fixed, meaning that you do not pay the same rate on all of your income. For instance, if you make an annual income between $157,500 and $199,999 your tax rate is 32%, but that does not mean you will pay 32% on ALL of your income, only on the income you earned beyond $157,500. This chart will help you understand it better:
% of income taxed
Income range (in USD)
How much you’re taxed.
0 – 9,524
10% of all your income
9,525 – 38,699
All income earned before 9,525 will be taxed at the rates explained above. All income beyond 9,525 but below 38,699 will be taxed at 12%
38,700 – 82,499
All income earned before 38,700 will be taxed at the rates explained above. All income beyond 38,700 but below 82,499 will be taxed at 22%
82,500 – 157,499
All income earned before 82,500 will be taxed at the rates explained above. All income beyond 82,500 but below 157,499 will be taxed at 24%
157,500 – 199,999
All income earned before 157,500 will be taxed at the rates explained before. All income beyond 157,500 but below 200,000 will be taxed at 32%
200,000 – 499,999
All income earned before 200,000 will be taxed at the rates explained above. All income beyond 200,000 but below 499,999 will be taxed at 35%
All income earned before 500,000 will be taxed at the rates explained above. All income beyond 500,000 will be taxed at 37%%
Filing your taxes and tax returns
Now that you understand income taxes and marginal rates, you can understand why you have to file your taxes. When you file your taxes you are essentially telling the government how much you made. From your total income, they calculate how much you should have discounted in taxes per your tax bracket. The IRS will then compare how much you actually discounted, to the amount of money that their calculation say you should have discounted. If you discounted more, you will get a refund check from the government. If you discounted too little, you will get a bill from the IRS. When you actually start to file your taxes, there are many other things that influence how much you are supposed to discount in taxes such as whether or not you’re married, if you go to college and get financial aid, if you have children, if you made a donation, among other things, but understanding the basics of income taxation allows you to be better prepared when filing your taxes.